US equities were weaker Wednesday, S&P down 0.4%. US10yr yields down 4bps to 2.93%, 2yrs up 10bps to 3.15% after a beat on US CPI and BoC hiked by 100bps. At -22bps, 2s10s are most inverted since November 2000, and the market has moved to a price ~90bps ahead of walking into the July FOMC meeting. EURUSD briefly fell through parity against USD, though recovered back to 1.0040-50 in recent trading.
Core components show inflation is still sticky across most items, making it trickier than hoped to fade the headline shocker in good size and price in peak; hence most folks are not adding to risk more content to trade around current hedges and the short side of the ledger.
As rates veered to moonshot mode, pricing in some risk premiums for a 100bp hike in July, most risk assets initially took it on the chin as the market added to the short sharp shock on rates.
But growth fears are hitting the markets harder than inflation concerns with the steeper 2s10s inversions on fresh worries the Fed will overshoot upfront.
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Still, stocks bounced off the CPI lows as the market thinks the Fed will hike quicker and cut sooner, with the first cut now priced for March 2023 versus May.
But The Bank of Canada dented the reversion party opting for a surprise 100bp rate hike because inflation pressures have been spreading more broadly across the economy, according to BoC Governor Tiff Macklem.
In the post-decision press conference, Macklem said front-loading rate hikes would avoid higher interest rates down the road.
Indeed this is precisely the impulse that US Treasuries are trading for the US and the Federal Reserve next Wednesday: front-loading hikes given high CPI, which means more cuts down the road.
Crude prices are stabilizing today after Tuedays’s aggressive selloff, although Brent tried to rally through $ in the New York session and failed. President Biden begins his negotiations with OPEC about boosting supplies, and it seems the market is waiting to see what comes out of these meetings.
Still, with the broader market again worrying about a possible FED overshoot and Europe mired in stagflation concerns, oil is struggling to break free from its current recessionary malaise as traders remain in risk reduction mode due to the slightly softer demand outlook this year on China’s slow covid recovery, a much stronger USD than forecast. But mainly, it is all about the shift in sentiment as numerous levels of recessionary scenarios are priced in, and a risk-off attitude takes hold. Here I stress ” sentiment,” not fundamentals.
As the dust settles after the highest US CPI print in 40 years, the EURUSD is still trading above parity and USD bulls must be disappointed with the lack of follow-through and the fact that the pair failed to hold below 1.0 for 1.0 Still, until Nordstream 1 turns back on the EURUSD and G-10 beta currencies could remain on the defensive as the market frets about stagflation. And I would underscore that the stress points run beyond the German natural gas shortage to the broader European energy market, which is now in deep crisis.
But with the market bringing forward Fed rate cuts, it makes for a messy FX picture where the USD should still be out-performing but perhaps less so, knowing the Fed pivot is likely to see a more asymmetric dollar reaction towards weakness.
Originally published by Stephen Innes, Managing Partner, SPI ASSET MANAGEMENT